- Office 365 has advantages over traditional Office 2013 which will make it popular among prospective clients in the coming years.
- Office 365, with a revenue run rate of over $1 billion in Q1 CY13, is priced to sell and should boost top-line.
- Cloud-based Office 365 will bolster revenue in price sensitive and piracy plagued emerging economies and further stabilize Microsoft’s market share in the productivity domain.
- Office 365 will also aid Microsoft in up-selling and cross-selling its other products.
Microsoft Corporation (NASDAQ:MSFT) is the leader in the productivity software segment with its flagship Microsoft Office productivity suite. With the launch of Office 2013 and Office 365 in February, Microsoft has made big waves in the productivity market. The Office productivity suite is Microsoft’s biggest revenue driver and makes up 39% of its estimated value. This segment generated approximately $24 billion in revenue in 2012, and we expect this to grow to $27 billion by 2016. At 65%, this division has the highest margins for Microsoft primarily due to a dominant 93% market share in the productivity suite market.
Microsoft has priced each of its office products differently. While Office 365 starts at $100 per year per user that can be installed on five machines, Office 2013 is available in “perpetual license” versions for $400, which may be installed on a single PC. In this article we will discuss how each of these versions stack up against each other and analyze Microsoft’s strategy for Office 365. We will also look into how Office 365 will impact Microsoft’s top-line and market share going forward.
Office 365 Vs. Office 2013
Office 365 is a web-based application that includes a subscription to desktop application in addition to the cloud-based service where as Office 2013 is a locally installed suite of application that has an upfront one-time license fee under the End User License Agreement (EULA).
While Office 2013 can be installed on a single machine and offers core applications such as Word, Excel and Powerpoint, Office 365 can be accessed from five different devices by a single user and comes with an additional 20GB of SkyDrive storage and 60 minutes per month of international Skype calls.
According to a Microsoft representative, who was emailed by a tech journalist, both Microsoft Office 365 and Office 2013 users will get updates but Office 365 users will get upgrades and/or new capabilities which will not be available for Office 2013 users. 
On the pricing front, Office 2013 has cheaper variants that cost $140 (Home and Student Option) and $220 (Home Office and Business), but they offer only the basic applications such as Word, Excel, PowerPoint and OneNote. We have compared Office Professional 2013 and Office 365 Home that offer a similar application suite including Access and Publisher.
Office Professional 2013 is available in “perpetual license” version for $400 while Office 365 comes in two versions: Office 365 Home Premium for $100 per user per year and Office 365 Small Business Premium for $150 per user per year. Office Professional 2013 with all applications appears to be an expensive option for the first year when compared to Office 365. However, since Microsoft usually launches a new version of Office every three years with an estimated upgrade cycle of five years, Office 365 will cost more.
Per User Per Year
|Office 2013 Professional||Office 365 Home||Office 365 Small Business|
Source:- Microsoft Office Web Site
Considering all the factors mentioned above, a user is most likely to shift to Office 365 as it offers more services and newer upgrades compared to conventional Office 2013. Through Microsoft’s upgrade facility for Office 365, a user will always have the latest version of the productivity suite without having to pay additional cost for the newer version. For example, if a user buys Office 2013 for $400 and upgrades to a newer version after four years by paying an additional $400, he would spend $800 in five years. However, with Office 365, a user will always have the latest version of the Office software. Moreover, the Office 365 user can install the software on five different machines that reduces the effective cost to $20 per machine, which is significantly lower than $400 per machine for Office 2013.
Office 365 Will Boost Revenues
In Q1 CY 2013, Microsoft’s Office division reported 10% y-o-y growth in revenues to $6.13 billion.  One of the primary reasons for growth was the sales momentum in Office 365, which reported a revenue run rate of over $1 billion. Considering the pricing strategy adopted by Microsoft for Office 365, we expect this trend will continue going forward and the revenue run rate from Office 365 will increase further.
With the current perpetual license fee structure, Microsoft realizes revenue from a one-time sale of license. However, with the subscription fee structure, Microsoft will have recurring revenue over the period of the software’s use. Moreover, since users tend to use a software over a longer period of time, Microsoft will be able to monetize Office 365 over this extended period of usage. We currently project revenue to increase from $24 billion in 2012 to $29 billion by the end of our forecast period. If revenue were to increase to $35 billion by the end of forecast period, our price estimate will increase by 5%.
Office 365 To Bolster Market Share And Combat Piracy In Emerging Markets
According to an IDC predictor report, IT spending in emerging markets will outpace that in developed markets and will constitute 34% of all IT spending.  It will also will account for 51% of all IT growth in 2013. According to reports, IT departments of companies in emerging economies are more likely to cut corners by installing pirated software. According to the BSA, a steadily expanding marketplace in the developing world drove the commercial value of software theft to $63 billion in 2011.  Moreover, according to IDC, at least 20% of businesses around the world used counterfeit MS Office in 2011. 
With Office 365, Microsoft plans to kill two birds with one stone by offering an affordable Office productivity suite to emerging markets clients and dissuading piracy by mapping specific machines to the licensed version of Office 365. Moreover, since most of the upgrades and enhancements will be available as a push service from cloud instead of downloadable service packs, this will further curb piracy in these regions.
We expect that this launch will greatly improve Microsoft Office’s top-line and bottom-line in the coming years as it reclaims lost market share from the black market. Moreover, Microsoft Office has a sticky user base that is reluctant to shift to a new platform. This makes it difficult for new entrants to make a meaningful dent into Office’s market share. As more users shift to cloud computing, we expect the adoption of Office 365 will increase and Microsoft will will be able to stem the decline in market share to around 90% by the end of our forecast period.
Opportunity To Cross Sell Other Products Through Bundling
With Office 365, Microsoft has a unique option of providing collaboration software that would encompass most of its products. Office 365 currently bundles SkyDrive storage and Skype services. Some other variants of Office 365 bundle LYNC and Exchange at higher price points. We believe that Office 365 can further leverage Microsoft’s ecosystem of products to sell other products such as mobile devices by bundling more value added services on it. We think that Microsoft will maintain its market share in the office software division due to evolving technology, changing business needs and seamless integration of its products across platforms.
We currently have $41 price estimate for Microsoft, which is approximately 24% above the current market price. If Microsoft can successfully execute its strategy to increase revenue, improve market share and stem piracy, we would see around 15% upside to our price estimate.
- Microsoft: Buy Office 365, Not Office 2013. Or You’ll Be Sorry, February 14 2013, www.readwrite.com
- See Office And Servers Lift Microsoft As PC Slump Hits Windows
- IDC Predictions 2013, February 2013, www.idc.com
- Global Software Piracy, globalstudy.bse.org
- Microsoft Establishes Cyber Crime Center To Combat Piracy, March 6 2013, www.nasdaq.com